An economics student is examining a model where the rate of price increase in an economy is determined by the percentage difference between the wage level firms are willing to offer and the wage level that provides workers an incentive to work. The student observes a 5% difference in Year 1 and a rate of price increase of 3% in Year 2. The student concludes the model must be flawed because the 5% value from Year 1 does not equal the 3% value from Year 2. What is the primary error in the student's reasoning?

According to the relationship expressed as π_t = gap_t, a 3% bargaining gap observed in the current year will result in a 3% inflation rate in the following year.

Predicting Inflation from Economic Data

According to the model represented by the formula π_t = gap_t, the inflation rate for a specific period 't' is equal to the bargaining gap that occurs during the ______ period.